Cash (management) is King!

Cash (management) is king !

The increasing importance of efficient cash management on cost/income performance


20 years ago I cut my teeth in the cash management area of several different investment banks as I started out in the City. In those days, the glamour areas of the post trade world where securities and OTC derivatives, with all of the complexity and excitement that these product areas brought. Cash managers in those days were seen and not heard, serving a purpose to ensure accounts didn’t go overdrawn or exotic currencies were available to support settlement…..but little else.

2008 changed all of that, where there was a newfound appreciation of the importance of such things as intraday credit lines, secured funding commitments and a realisation that cash was no longer an unlimited facility to support the settlement process. It was a scarce commodity and efficiency of usage for many made the difference between staying alive or following Lehman and Bear Stearns into the abyss.

Roll forward to 2019 and a decade of regulation has created an environment where liquidity management is high on the agenda for most organisations. With both intra-day liquidity management (as part of BCBS 248) and the liquidity coverage ratio (under Basel III) driving HQLA segregation as capital buffers, inefficiency within this space can be extremely expensive. In fact, we see optimisation as being a critical ingredient to sustained cost/income performance – far in excess of some of the traditional cost reduction levers being commonly pursed by investment banks.

Why do we think this?

The past decade of increased regulatory costs (capital costs and implementation of new standards) alongside declining fee pools has created immense pressure on cost income ratios. The initial response was for organisations to focus on the cost side of the ratio, driving down their internal costs through de-layering, automation or outsourcing (or all three). With increasing costs of doing business driven by regulation, this has had the effect for most of ‘running to stay still’ – effectively offsetting these increased costs through reductions in the middle and back office cost base.

But now these costs have been pared to the bone and the reality for all but the global universal banks (tier 1’s) is that they are still way off where they need to be in terms of cost/income performance. And the income side of the ratio is unlikely to solve this problem.

Whilst focussing on direct costs however, many have neglected the indirect costs associated with doing business – such as the amount of capital they are holding against running their businesses. Oliver Wyman[1] noted in 2018 that for most organisations the average negative carry cost for intraday liquidity reserves were 100bps – which equates to $10m of cost for every $1bn held (annually). So being able to make significant saves in this area can be not only material in cost reduction, but can also provide an ongoing annuity to the business if managed in the right way.

And for those organisations we have seen as being successful in making savings, this reduction can reach almost 50% of the original buffer size – which even for a small organisation can have a material impact on the cost base of the business. So banks pursuing a cost reduction programme should look beyond the obvious levers and explore how their business is affecting liquidity usage.

Why haven’t organisations done this already?

Whilst perhaps an obvious area of focus, driving this type of efficiency requires a joined-up approach across an organisation. This starts with having the right data to understand the drivers of capital usage, the expertise to interpret it and propose business change, and a governance framework to enforce change and track progress. In most organisations, the distribution of ownership, responsibility and cost allocation makes what is a simple concept hard to accomplish. And for some organisations, these costs continue to reside centrally as they are in the ‘too hard’ bucket to allocate out – but without cost allocation (and ultimately responsibility) corrective action can’t be taken.

So where do you start?

Ascendant Strategy recently undertook an engagement for one of our clients to provide some ‘outside-in’ thinking around their technology strategy for cash and inventory management. During this engagement, we were able to bring in a broad spectrum of insights from both peer banks and technology vendors to formulate our opinion on what best in class looked like.

What we observed through this exercise were some common characteristics of optimisation:

  1. Governance. Organising a structure that includes all the relevant stakeholders from the front, middle and back office was the single most important ingredient. This must be a top down agenda, not middle or bottom up.
  2. Define the problem statement. Joining up the dots between the treasury allocation process and the drivers of the capital calculation is a key start point. But don’t over engineer it – the critical success factor is to have a start point and then drive an agenda off the back of it, not debate how and why the calculation is designed.
  3. Get into the data. Focus on working with what data you have rather than over engineering the analysis. This is where front-to-back engagement is key, as the start point is typically payment or settlements processing which then needs to be reconciled down into treasury (to validate the calculation) and then up into the front office to determine the drivers of the settlement flows.
  4. Be practical. Structure the exercise to take a piecemeal approach, either by business flow or perhaps currency – success here requires a methodical approach that gets into the detail, so avoid boiling the ocean.
  5. Architect for success. Whilst material savings may be possible with minimal process change – as an example, by manually controlling high value payments in a low volume currency – sustainable optimisation will require technology enhancements at some stage. But this doesn’t have to be expensive or disruptive – many vendors provide toolsets to drive optimisation (such as FX payment netting) through standard API’s that are relatively straightforward to access. What success does require here however is a focus on making critical data standardised and accessible – we see this point as the single biggest differentiator as best in class vs the rest. Many organisations grapple with being able to get the full picture of their liquidity drivers due to fragmented or inconsistent data from internal systems.
  6. Embed the process. A project focus can drive material wins in the short to medium term, but sustainable cost reduction is only possible when the behaviours driven through the project are embedded into the day to day. What this means in practice is a centralisation of oversight and decision making around cash settlement – this doesn’t have to imply centralisation of technology (which can be complex and expensive) but it does mean a single group having the expertise and responsibility to manage the entire process across the organisation. Linking day to day control of the cash flow process with the accountability for making optimisation decisions (such as payment netting or ‘throttle and braking’ of payments) is a critical success factor here to enable material impact on the capital requirements. This function must also be tightly integrated into the treasury calculation process, so proactive action around cash flow management can be translated into tangible reductions. This then enables the benefits of efficiency to be translated back into real cost reductions.

Within their report, Oliver Wyman projected that a 25% reduction in capital usage was a realistic target for most organisations if they adopted the right behaviours – interestingly, they also noted this number rose to over 50% in certain organisations they had worked with. As stated earlier, we would echo this assumption based on our experience of working with different organisations.

So when you are working with numbers that are in the $bn’s, it is clear just how much of an impact optimisation can have on the cost/income ratios for the organisation. Much more so than the traditional cost levers that many organisations continue to pull in the hope of sustainable profitability.

Written by James Maxfield, MD Ascendant Strategy




[1] ‘Intraday Liquidity – Reaping the benefits of active management’ Oliver Wyman 2018